Commentary on Political Economy

Wednesday, 6 July 2011

Commentary on Gavyn Davies on the Fed, Treasury Bonds and the Federal Deficit

It is a salutary development that analysts like Davies are prepared to broaden the horizons of economic analysis beyond the strictly technical boundaries that the economics profession artificially imposes on itself – for the obvious reason, first and foremost, that it is employed by the very owners of capital whose “investment decisions” they are supposed to comment on. What we need to do then is to develop categories of analysis that do not stop at questioning the distribution of social resources that is “rationalised” by the existing categories of bourgeois economics, but also and above all at “making visible” or evincing precisely such a “rationalisation”.

In other words, our first task is to show how the “existing categories” of bourgeois economics – both in the way they “interpret” reality and in the way they “measure” it – serve to justify and to present as “natural” and incontrovertible aspects of social reality that are far from being either or both.

Our next task is more “active and constructive” rather than “critical” in that it proffers not just an alternative “interpretation” of reality but also, and far more important, it pro-poses (it puts forward) a reality that is altogether dif-ferent and “alternative” to the one that is justified and rationalised by bourgeois economics.

So let us start with an example – and Gavyn Davies has provided us with a useful starting point from which to illustrate our new alternative approach – again, alternative in the double sense of allowing us “to interpret” the reality of capitalism “dif-ferently” and also to pro-pose or suggest “alternative” realities with which this system can be replaced!

Let us leave to one side Davies’s discussion of the “constitutional interpretation” of the debt ceiling and what disbursements by the Executive would be covered by it or not. These clearly do not involve the use of social resources except to the extent that they allow one social agency or another to act or no in a certain manner. So we will ignore them as does Davies, quite correctly.

The question of the (magical) “cancellation” of the bond-denominated federal debt is another one that Davies quite rightly avoids for the simple reason that resorting to such ludicrous stratagems (escamotage, in continental languages) would be a simple act of “abolition of the capitalist system as we know it”. The fact is that the capitalist system works on the presumption that economic decisions taken in accordance with and by dictation from the market pricing mechanism (the famous “free competitive market”) represent the entire “rationale” of the optimal allocation of social resources under capitalism. To suspend or abolish such a system together with the “legal entitlements” (private property institutions) on which it is founded would be tantamount to declaring the entire capitalist system null and void: the economy would become a “command economy” of the Soviet or Nazi or Chinese type and would have no claim whatsoever to being “capitalistic” any longer.

So let us move on to Davies’s next level or stage of analysis, which is the most appropriate and interesting one in terms of orthodox bourgeois economic analysis. Notice here how Davies returns to the conventional explanation or account of “why” the Fed and the Treasury have combined to expand the share of government (public) debt as a share of GDP, that is in the entire economy. Here is Davies:

“I can only speculate about this. Initially, everyone thought that QE was an emergency, short term measure which would be rapidly reversed. Now that it has proven more permanent, the authorities may not want to admit that the budget deficit has been money financed, because that might raise inflation expectations.”

But the problem is that, for one, the fact that these were thought to be “emergency, short-term measures” simply does not “explain” why they were taken in the first place. And for another, “raising inflation expectations” is precisely what the Fed was attempting to do by purchasing Treasury bonds in the first place! Indeed, the clear outcome so far has been that QE has not raised inflation in the US to any extent; and a growing number of Fed members and insiders are now suggesting that more, not less, QE may soon be needed!

It is clear therefore that rather than a choice, QE has been a “necessity” forced on the US monetary authorities by the changing reality of capitalist relations of power that this “crisis” has both exposed and exacerbated. We will not go into those here this time but may return to this crucial (indeed critical!) issue later. But let us finish off with Davies:

“Or, more likely, they [the Fed] are intentionally benefiting from the long standing credibility of the Fed. If the Fed is willing to hold the government bonds, they may not want to see the value of these bonds eroded by inflation. And the Fed one day intends to sell the bonds back to the private sector, which would translate the present dose of money finance into bond finance. This should bring inflation under control, if it were ever to rise meaningfully.”

But in fact the Fed would quite welcome to see “the value of these bonds eroded by inflation” because that would be what Carmen Reinhart (among others, this is old knowledge, even Minsky lingered on it) has called “government financing of the deficit” – in other words, the government would whittle away its large deficit debt through inflation (the oldest trick in the book).

The most important points to realize here are two: - first, that the State is now playing such a quantitatively expanded role in the “capitalist” economy that its very “capitalist” nature is called into question; and two, a corollary to the first point, the “private sector” plays such a diminished and irrelevant role in the overall “strategy” of capital in our society…. That it behoves us to question whether decisions about the use of social resources ought to be left in the hands of “private” capitalist institutions such as corporations!!

Davies’s last paragraph is sheer revelation:

“Seen in this light, the Fed is acting as a kind of enforcer, which limits the power of the political system simply to run budget deficits and print money forever. And, on reflection, that is probably a legitimate role for the central bank to play.” OR IS IT??!!